Rama Krishna Vadlamudi November 25th, 2009

Investors looking for investments in liquid mutual funds can consider the
following liquid funds. Every individual needs to keep some money in liquid funds
or savings banks (SB) deposits for meeting their emergency or day-to-day
requirements. Experts opine rather suggest that at least six months of one’s
income must be kept in liquid form for emergency/medical purposes. One can
keep two months of one’s income in SB account, the remaining four months of
such emergency/contingency fund can be kept in liquid funds. While SB accounts
offer immense liquidity through ATM cards, mobile banking and cheque book
facility; there are some good alternative to SB deposits. Even institutional
investors also keep their short-term surpluses in such instruments separately
floated for them by mutual funds.
There are a variety of liquid mutual funds, variously termed as, money market
mutual funds or liquid mutual funds. While SB accounts are supposed to give an
interest of 3.25 per cent per annum, the effective yield for a depositor works out
to a meager 2.5 per cent or even less due to some peculiar features of SB
accounts in India. Banks pay interest on SB accounts on the minimum balance
maintained between 10th and last day of the month. Depositors lose out heavily
because of this distortion. This gross aberration is being rectified by Reserve
Bank of India effective April 1, 2010 – from that date banks have to pay interest
on daily average balance. Though belated, this is a good and depositor-friendly
intervention from the central bank.
Liquid mutual funds invest in short-term instruments with maturity of up to 91
days. As such, their returns will depend on the demand for short-term funds. For
example, during 2008, due to tight liquidity conditions, liquid funds were able to
deliver returns of nine to 10 per cent per annum to liquid fund investors. This was
very much higher than the supposed SB deposit rate of 3.25 per cent. But this
year, SEBI had directed liquid funds not to invest in instruments of more than 91-
day maturity effective from May 1, 2009. As such, their returns have come down
drastically for liquid funds in the last six months.
Moreover, due to benign interest rate regime in the monetary system, short-term rates of
certificate of deposits and commercial papers have come down. If and when the interest
rate cycle takes an upward curve, then these liquid funds will be able to generate returns
of five to seven per cent in future. As of now, due to immense liquidity and subdued
interest rates, the returns from liquid funds are hovering between four and five per cent,
which is just half of what they paid in 2008. The returns may improve going forward
depending on interest rate cycle.

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Salient features of liquid mutual funds:

Liquid funds invest in debt instruments and money market instruments

Investments in liquid funds are practically risk-free, even though they carry
interest rate risk and credit risk

Interest rate risk and credit risk are practically NIL as these funds invest in
short-term instruments

Investments of up to Rs one lakh in SB accounts are guaranteed by DICGC
(an arm of RBI) in the event of any bank going bankrupt; however, there is
no such protection for investments in liquid funds

There are no entry and exit loads for liquid funds

They are easy to invest and easy to redeem, though in certain cases the
redemption may take two to three working days

One important factor to consider before investing is expenses ratio. The
lower the expenses ratio, the better for investors

SUITABILITY OF LIQUID FUNDS:

Liquid funds are suitable for individual or institutional investors who are seeking
returns for short-term tenure and wants to keep the funds in highly liquid form, that
is, encashable easily

Instead of keeping more than required money in savings bank deposits (which give
a yield of about 2.50 per cent per annum) or current accounts (which give no
interest), individual/institutional investors can consider liquid funds alternatively

GOOD LIQUID FUNDS: (Table 1)

YEAR 2009 2008
AAUM Rs
LIQUID FUNDS crore* Q3 Q2 Q1 Q4 Q3 Q2 Q1

Returns % #

CANARA ROBECO LIQUID RETAIL-G 24 1.03 1.2 1.63 2.46 2.36 2.08 2.13

HDFC CASH MANAGEMENT SAVINGS 5,233 1.18 1.32 1.78 2.24 2.33 2.09 2.04
PLAN-G

LIC MF LIQUID-G 13,315 1.24 1.38 1.92 2.5 2.37 2.14 2.13

UTI MONEY MARKET MUTUAL FUND-G 207 1.15 1.37 1.82 2.4 2.33 1.92 1.83

* AAUM-Average assets under management as on Oct. 31, 2009

# The returns in percentage are absolute, but not annualized for
calendar quarter - for growth plans of open-ended schemes
This colour indicates highest return

From the above table, it can be observed that, LIC MF’s Liquid fund-Growth Plan has
been consistently giving highest returns in the last seven quarters. In fact, the data for
last 30 quarters (since Apr-Jun 2002 qtr till the latest) indicate that LIC MF’s Liquid fund
has given one of the best returns in 22 quarters. Next come HDFC Cash Management
Savings Plan and UTI Money Market Mutual Fund. (see tables 2 and 3 below)

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Main features of these liquid funds: (Table 2)

Minimum Min. Expenses

LIQUID FUNDS Subscription Balance Ratio % STP Port-folio RISK
Rs Rs in 2009

Good
LIC MF LIQUID-G 25,000 25,000 0.4 YES Rating LOW

CANARA ROBECO LIQUID RETAIL- Good Below

G 5,000 NA 0.42 NO Rating Average

HDFC CASH MANAGEMENT Good

SAVINGS PLAN-G 10,000 NA 1.27 YES Rating LOW

UTI MONEY MARKET MUTUAL Good Below

FUND-G 10,000 10,000 0.43 YES Rating Average

STP-Systematic Transfer Plan; Data as on 20.11.09; & Data source: ValueResearch

RETURNS FROM LIQUID FUNDS: (Table 3)

1-week 1-month 3-month 6-month 1-year

LIQUID FUNDS return % return % return % return % return %
# # # # #

LIC MF LIQUID-G 0.09 0.40 1.20 2.52 6.42

CANARA ROBECO LIQUID RETAIL-G 0.07 0.30 0.93 2.06 5.42

HDFC CASH MANAGEMENT SAVINGS

PLAN-G
0.08 0.37 1.12 2.38 5.98

UTI MONEY MARKET MUTUAL FUND-

G
0.07 0.33 1.00 2.29 5.99

# The returns in percentage are absolute, but not annualised

Data as on Nov. 20, 2009; Data source: ValueResearch

SOME OTHER GOOD LIQUID FUNDS:

• There are several well-known liquid mutual fund schemes, like, Templeton India
Money Market Account (TIMMA is the first MMMF in India), Birla Sun Life Cash
Manager, SBI Magnum InstaCash, Quantum Liquid fund (net assets are very
low) and DWS Insta Cash Plus Regular.
• In the category of institutional plans of liquid schemes, the following schemes are
well known: Birla Sun Life Cash Manager Inst, ICICI Prudential Liquid Super Inst,
Reliance Liquidity fund, Tata Liquid Super HI, Templeton India Super Inst, and
UTI Liquid Cash Inst.

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 Tax Treatment of Growth Plans of Liquid funds
for Resident Individuals

1. LONG-TERM CAPITAL GAINS TAX (LTCG): Suppose a resident individual

has invested money in the growth plan of a liquid MF scheme. If she keeps the
units for more than a year, the profit from the sale of such units will be subject to
long-term capital gains tax at the rate of 20 per cent (including education cess, it
comes to 20.60 per cent) with indexation benefit. Without indexation benefit, the
tax liability will be 10.30 per cent including education cess.
2. SHORT-TERM CAPITAL GAINS TAX (STCG): Suppose a resident individual
has invested money in the growth plan of a liquid MF scheme and she sells the
units within one year from the date of investment. The profit from sale of such
units will be included in her taxable income and taxed according to her individual
tax slab (that is, marginal rate of tax).

Tax Treatment of Dividend Plans of Liquid funds

for Resident Individuals

Returns received from dividend plans of liquid MFs are tax-free in the hands of
resident individuals; however, mutual funds deduct a dividend distribution tax
(DDT) of 25 per cent (including education cess, it works out to 25.75 per cent)
and pays the remaining dividend to the unitholders. To that extent, the return
from dividend plans will be lesser.

Tax Treatment of Mutual Funds in India (Table 4)

LONG-TERM CAPITAL GAINS TAX * SHORT-TERM CAP. GAINS TAX *

INIDIVIDUAL CORPORATE INIDIVIDUAL CORPORATE

Equity
NIL NIL 15.45% 16.995%
MFs

10.30%
without 11.33% without Taxable as per the
Debt MFs indexation indexation
# rate applicable to 33.99%
20.60% with 22.66% with the investor
indexation indexation

* Individual - includes education cess of 3%; corporate - incl. surcharge 10% % edu. cess of
3%

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# Debt MFs include liquid and money market mutual funds
Definition of long-term/short-term capital gains: If an investor holds a
mutual fund for more than one year from the date of investment, gains or losses
from such funds after redemption are considered as long-term capital gain or loss
as the case may be. If the investor redeems a mutual fund within one year, the
gain or loss from such a fund after redemption is considered as short-term capital
gain or loss as the case may be.

Definition of an equity mutual fund: If any mutual fund invests 65 per

cent or more of its net assets in the equity or equity-related instruments, then
such a mutual fund is considered as an Equity Mutual Fund for income tax
purposes as per Income Tax Act.

DIVIDEND DISTRIBUTION TAX (DDT): (Table5)

DIVIDEND DISTRIBUTION TAX (DDT) * As per Section 115R of the IT

Act, DDT is payable by debt
INIDIVIDUAL CORPORATE mutual funds including liquid
funds or money market mutal
Equity MFs NIL NIL funds (MMMFs) on dividends
distributed by them to
unitholders.

Debt MFs excl. liquid 12.875% 22.66% * For individuals, DDT

funds includes education cess of
3% and for corporates, DDT
Liquid MFs or includes surcharge of 10%
MMMFs 25.75% 28.325% and education cess of 3%.

For my write-up on MMMFs LIQUID MUTUAL FUNDS-AN INTRODUCTION

dated November 24th, 2009, just click:

http://www.scribd.com/doc/19443947

OR
http://groups.google.co.in/group/random-thoughts-on-investments/files?hl=en&&sort=date

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